By Paul Marchese and Phil Palumbo
In the United States we all enjoy something called a federal lifetime exclusion, which is a dollar amount given to each of us by the IRS that is most often used to offset any estate tax liability when a person dies.
Although most taxpayers use their FLE “at death,” a taxpayer is also permitted to use their FLE during their lifetime by making large gifts.
In 2017, President Trump doubled everyone’s FLA to its current level, which is $11.7 million per person. Legally, President Trump could not make the FLE increase permanent and so the exemption is scheduled to be reduced by 50 percent at the end of year 2025. As part of President Biden’s promise to raise taxes on the wealthiest 1 percent of Americans, he has proposed accelerating the drop in the FLA to this year or next year.
Many savvy taxpayers have no desire to wait around to see what is going to happen. Using the law as it exists, and the ability to give away the FLE during life, they are making very sizable gifts now, so that if the FLE is reduced, they have effectively “locked-in” today’s high FLE through their gifts.
Clearly, the idea of giving one’s assets away during their lifetime has a limited appeal to many taxpayers and this is where the Spousal Lifetime Access Trust comes in handy.
The true value of the SLAT plan is that a person can “gift” assets to a trust, use most or all of their FLE during their lifetime and, if the client lives for three years from making the gift, the gift is not “clawed back” into the estate for New York State estate tax purposes, thereby allowing the gifted assets to completely avoid NYS estate taxes.
Further, when the FLE is lowered, the gift to the SLAT effectively “locks-in” the client’s exemption at today’s rate.
A SLAT is an irrevocable trust that works as follows: Husband would create a SLAT wherein wife, and say, the couple’s son, are the trustees. The trust would provide that as much of the income and principal of the assets in the SLAT are available to wife for the rest of her life.
For gift and estate purposes, the Husband’s gift of assets to the SLAT is a completed gift and will use the Husband’s FLE. If the wife dies before her Husband, the assets in the trust can remain in the trust and, with the trustee’s consent, the SLAT could loan trust assets to the husband should he ever need them.
When both spouses die, the assets in the SLAT, and all the growth thereon, will pass to their children completely free from any estate taxes.
From an income tax perspective, the SLAT trust is of a type that is called an “intentionally defective grantor trust,” which means that the tax ID number of the trust is the husband’s Social Security Number, resulting in the avoidance of filing a separate income tax return for the trust and enabling the taxpayer to pay the income taxes that are generated on the assets within the SLAT from their personal assets.
If you consider the net effect of the foregoing ability, the taxpayer is in effect making additional tax-free gifts to the SLAT because they are personally paying from their individual, non-trust assets, the tax obligation on something that is not theirs, thereby allowing the trust to grow tax-free.
Like with all planning, there are some downsides to the SLAT plan. For all gifted assets, there will be a “carry-over” in cost basis for all appreciated assets gifted to the SLAT and there is an “all or nothing” nature to this type of gifting – if the taxpayer does not use all or most of his or her FLE when gifting to the SLAT and the FLE is subsequently lowered, the “unused” part of the FLE will likely be eliminated with the reduction of the FLE.
Taxpayers would be well advised to seek the advice of knowledgeable counsel to see if the SLAT plan is right for them before the door closes on this type of planning.
Paul Marchese is a partner Marchese & Maynard, Manhasset, NY, attorneys focused on Wills, Trusts, Estates, Elder Law and Medicaid Planning. Phil Palumbo is the founder of Palumbo Wealth Management (PWM). PWM is a registered investment advisor. Advisory services are only offered to clients or prospective clients where PWM and its representatives are properly licensed or exempt from licensure. For additional information, please visit www.palumbowm.com. The information provided is for educational and informational purposes only and does not constitute investment advice and should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not account for any investor’s particular investment objectives, strategies, tax status or investment horizon. You should consult your own attorney or tax advisor.